A Catholic adoption agency has lost its attempt to restrict its service to heterosexual couples after the Charity Commission found there was no justification for barring gay and lesbian parents.

Leeds-based Catholic Care sought exclusion from the 2007 sexual orientation regulations and began legal action to change its constitution so it could continue helping married couples only. The commission initially refused to give its consent, but the charity won the right to appeal against its decision.

Catholic Care told the high court that it would have to stop finding homes for children because Catholic donations would cease if it helped gay prospective parents. Mr Justice Briggs instructed the commission to reconsider the case.

But the commission said today it could not accede to the charity's demands, with its chief executive, Andrew Hind, saying the decision had been "complex and sensitive".

He said: "In certain circumstances, it is not against the law for charities to discriminate on the grounds of sexual orientation. However, because the prohibition on such discrimination is a fundamental principle of human rights law, such discrimination can only be permitted in the most compelling circumstances.

"We have concluded that in this case the reasons Catholic Care have set out do not justify their wish to discriminate."

A one-line statement from the Catholic bishops of England and Wales said the welfare of children had "always been Catholic Care's primary concern" and that it would now carefully consider the ruling.

Catholic Care said it was very disappointed by the outcome as it would reduce the number of people recruited as adoptive parents.

It would now consider whether there was "any other way" in which the charity could continue to "support families seeking children in need".

The country's Catholic hierarchy fought hard to secure an exemption for adoption agencies and their struggle became the focus of an unprecedented papal outburst last February, which saw Benedict XVI condemn UK equality legislation.

In a strongly worded letter to the Catholic bishops of England and Wales, the pope criticised the then-Labour government for creating "limitations on the freedom of religious communities to act in accordance with their beliefs".

He wrote: "The effect of some of the legislation designed to achieve this goal has been to impose unjust limitations on the freedom of religious communities to act in accordance with their beliefs. In some respects it actually violates the natural law upon which the equality of all human beings is grounded and by which it is guaranteed."

Harriet Harman, who was equality minister at the time, defended the laws. The two will come face-to-face for the first time next month, when the pope visits Britain and is due to meet Harman in her role as acting leader of the Labour party.

Their meeting will follow "courtesy calls" from David Cameron, who will enjoy 20 minutes with the pontiff, and his deputy Nick Clegg, who gets half that time, before mass at Westminster Cathedral.Other details from the full papal itinerary, released today, show there will be two joint public appearances by the archbishop of Canterbury and the pope. Relations between the two churches have been strained since the Vatican announced a new structure for disaffected Anglicans that would make it easier for them to convert to Catholicism.